Investing in gas stations. Assessing the key drivers of the fuel retail business performance

Gas stations are here to stay, but must adapt to changing circumstances

Despite the buzz about the impending arrival to the mobility industry of disruptive technologies and business models, motorization rates continue to increase globally driven by the economic growth and increasing purchasing power registered in emerging areas of the world, such as Latam, Africa or Asia. In fact between 2005 and 2014 the worldwide motorization rate grew by 25% according to OICA, the global vehicle manufacturers association.

However, the evolution of motorization rates in mature markets such as Europe, the US or Japan is poor, and the global consumption of gasoline has grown globally at a modest pace in recent years.

Moreover, from a financial performance perspective, fuel-business margins are razor-thin. According to Forbes, average net margins at US gas stations ranged between 1% and 3% in recent years, and the situation in regulations-constraint markets assessed by ALG is very similar as per poor fuel-business margins.

In this context, fuel retailers must leverage the strong demand base to obtain bigger margins from non-fuel ancillary services.

Fuel-business margins in a Middle Eastern country (ALG)
Fuel-business margins in a Middle Eastern country (Illustrative)


Fuel demand is driven by a wide array of socioeconomic factors, such as the motorization rate, the type of vehicles more commonly used, the quality and extension of road infrastructure, population growth trends, household income trends, fuel prices, import/export dynamics, public policies –whether those focus on promoting public transport or rail- as well as factors relating to the local culture, weather and territorial characteristics of the market.

Based on its body of knowledge and practical experience, ALG has identified four key drivers that should guide our investment decision.

  • The market should be approached under a real estate mind-set, thoroughly appraising the regulatory framework and the relative value to be extracted from different kinds of locations and existing facilities.
  • We should identify and always bear in mind the value proposition that we intend to offer in order for our evaluation of sites to be accurate. In other words, our value proposition and site locations need to be in harmony.
  • We should make decisions based on our tolerance for risk and expected returns, which will play a key role in assessing the operating model of our stations, more or less asset-intensive.
  • The former elements should be combined to lay out a consistent investment plan, taking into account the pace and breadth of our investment strategy.
Fundamentals of investment in gas stations (ALG)
Fundamentals of investment in gas stations (Illustrative)

Real estate

Under a real estate approach we should put enormous focus on the selection of our regions and sites of interest.

To start with, the selection of targeted regional markets needs to take into account the macro drivers of demand, such as the population and its growth trends, the purchasing power of the region’s households, and the per capita consumption of fuel products.

Microeconomic drivers should play a primary role in our selection process too. For instance, the level of service of a given market, i.e. whether a market is underserved, is a very relevant factor when deciding on the optimality of a specific area. Moreover, the intensity and nature of competition needs to be assessed. For instance, a market could be overserved by low-quality fuel-focused stations, providing an opportunity for full-service sites driven by ancillary services and premium quality. The share of demand by product should be evaluated too: not all fuel products yield the same margins, where premium gasoline is typically more profitable than diesel products, for instance.

The operational conditions on a given area should be factored in too. The availability and cost of the labour force, the distance to supply nodes, and very importantly the seasonality of the market (strong seasonality comes along with extra operational and financing costs): those variables will have a significant impact on our cost structure.

Finally, when it comes to assessing specific sites, we should certainly look for plots on roads with high traffic, good visibility and accessibility, but it is also of the utmost importance to strike the right balance between the potential of demand and the cost and risk of lease and investment.

In that regard, the amount and timing of significant CAPEX needs to be weighted in order to properly choose between greenfield or brownfield projects. Moreover, from a pure real estate point of view, we need to reach an optimum balance between the expected cost and risk distribution throughout the years of leasing, on one hand; and the structure of the revenue we are expecting to obtain from sub-leasing some of the ancillary facilities of the station, on the other hand.

We should identify opportunities and threats. Opportunities may take the form of new infrastructure or urban developments, or the existence of entry barriers limiting the competition a site will face.

This will be the case if the minimum distance between sites is regulated by law, or if the licenses to operate stations are limited or hard to obtain. There may be threats to a site too: some infrastructure developments may discourage traffic through the road where the site is located. In some places we may find out that land plots can be legally used for other commercial purposes yielding higher returns than gas stations, which will entail higher lease costs.

Location selection criteria
Location selection criteria

Value proposition

The value proposition of our stations network needs to be perfectly aligned with the location of the sites. We must define a variety of station concepts adequate to our purpose and the areas we are targeting.

Each station concept must address in detail the quality and breadth of the services we are willing to offer as well as the main operational characteristics of the station.

For instance, we may want to define a regular station type meant to be implemented in small plots located in high density urban areas, where the focus will be on the fuel business, and other complementary station concepts with a broader service offering in bigger sites in order to leverage the non-fuel services margins for different types of customers.

Illustrative definition of station concepts ALG Newsletter
Illustrative definition of station concepts

Hedging risk

Our operating model needs to be in sync with our appetite for risk and returns. In that regard, we must carefully craft an entry strategy to the market suiting our profile as per equity involvement and operational involvement.

From an operating model point of view, depending on the market there are a range of alternatives available to the investor:

From the less risky one, which entails franchising our brand, to the riskiest one which entails self-operating both the fuel and non-fuel businesses. An intermediate and common choice is to sub-lease non-fuel services to specialized retailers such as convenience store, restaurant and car services operators.

Moreover, for each site we need to appraise and mitigate the risk associated to the main variables impacting the profitability of our business, most significantly lease cost, capex and non-fuel revenue.

The margins of the fuel retail business are razor-thin, so gas stations must leverage the strong demand base to increase their profitability through non-fuel ancillary services

Investment strategy

Finally an investment strategy aligned with our goals should be designed.

At first we should identify the different viable alternatives from a geographical footprint point of view. It is key to define whether we want to set foot across a nation-wide market including regions with high growth potential or rather focus on specific areas which already have consolidated demand.

From there, detailed alternatives in terms of the number of stations and the investment pace will be crafted and assessed, from the point of view of profitability returns and qualitative upsides and downsides.

There is a trade-off between risk mitigation on one side and fast access to market share and economies of scale on the other which needs to guide our decision.

About the authors
Pablo Ruiz del Real is MSc in Civil Engineering, Partner and Advisor at ALG
Juan Rivera is Bsc in Mathematics, MBA and manager at ALG
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